Controversy is raging over the hidden risks of exchange-traded funds. But thanks in part to the Securities and Exchange Commission, the debate is largely academic for most US investors.

An alphabet soup of international regulators has weighed in on ETFs, warning in recent months these popular vehicles pose risks that could one day contribute to a market meltdown, in much the same way investments like collateralised debt obligations did during the financial crisis. Rightly or wrongly, the vehicles that figure most prominently in the debate are ones that already face severe SEC restrictions because of their reliance on complex financial instruments known as derivatives.

"They are a type of ETF that by and large aren't allowed in the US," says John McGuire, a lawyer who specialises in fund regulation at Morgan Lewis in Washington.

The SEC's stand comes at a time when regulators have been under pressure to police Wall Street more forcefully, but at the same time face constant industry pressure to avoid changes that crimp financial "innovation" and "investor choice." The SEC's recent refusal to approve new derivative-based ETFs appears to be one area where industry arguments haven't held sway.

The ETF warnings sound dire: No fewer than three separate institutions, the Washington-based International Monetary Fund, the Financial Stability Board and the Bank for International Settlements, both based in Switzerland, have suggested the growth of ETFs could lead to market disruptions. The IMF, which in 2005 correctly warned about potential problems in the then fast-growing credit derivatives market, now suggests, for instance, that risks posed by ETFs could become "systemic under stressed market conditions."

Unsettling as this seems, these groups have primarily been concerned with a type of ETF often called "synthetic." Instead of owning, say, all the stocks in the S&P 500 like the SPDR S&P 500 ETF Trust does, synthetic ETFs often hold "total return swaps," essentially promises by an investment bank to pay investors returns equal to that of the index, backed up with some type of collateral such as cash, bonds, or stocks - but not necessarily the ones in the index tracked by the fund.

What gets posted as collateral might not matter much as long as investors trust the banks that stand on the other side of the swaps. But it could become one if that trust is shaken as it was during the financial crisis. In that case, doubts about these assets might even lead to a stampede out of ETFs, reverberating throughout the financial system, the regulator's logic goes.

The controversial synthetic ETFs are big in Europe, accounting for almost half the $330bn market there, according to BlackRock.

But in the US, where ETFs hold $1 trillion, this type of ETF is unusual. Some vehicles arguably qualify, such as so-called leveraged ETFs, that help investors double-down on the stock market, and exchange-traded notes, which target difficult-to-reach assets like commodities. But these represent just a sliver - at most 5% - of the total.

That's in part because last year the SEC said it would stop approving applications by fund companies that wanted to launch new derivatives-based ETFs, while it considered concerns over how mutual funds and ETFs use these instruments. Securities lawyers who follow the Commission say there's no telling when the ban, which has also held up many active ETFs, is likely to be lifted. The SEC declined to comment on the move.

Are the risks tied to derivative-based ETFs real? No one knows for sure. Many industry experts suggest the funds have mechanisms in place that can cope with potential market stresses. Then again, plenty of reassuring arguments were made before the financial crisis to dismiss worries about weak points of innovations like collateralised debt obligations and credit-default swaps.

One thing is clear: the situation shows how difficult choices regulators face can be. If the SEC continues to restrict the products and a disaster is averted, US investors may never quite appreciate just how good a job it did. If the SEC approves the products and problems do occur, it's sure to get the blame.